In the realm of investment, efficiency is often equated with technological advancements that streamline processes and reduce costs. However, a new paper by Cliff Asness, a renowned quantitative investor, suggests that the stock market may be an exception to this rule. Asness argues that while technology has indeed made the stock market more efficient in terms of speed and cost of trading, it has not necessarily led to more accurate pricing. The concept of market efficiency, as defined by Nobel laureate Eugene Fama, refers to the extent to which stock prices reflect all available information. The advent of electronic trading and the proliferation of information have undoubtedly increased the speed at which new information impacts stock prices. However, Asness points out that speed does not guarantee precision. He uses the example of value spreads, which compare the prices of the most expensive stocks to the cheapest, to illustrate this point. Value spreads have been increasing since the 1990s, suggesting that the accuracy of stock prices may be declining.
Asness offers three potential explanations for this phenomenon. First, he suggests that decades of low interest rates may have distorted traditional measures of value, although this argument is less compelling now that interest rates have returned to positive real levels. Second, he posits that the rise of index funds, which buy and hold the entire market, may have crowded out smart investment, making it harder for informed investors to push prices in the right direction. Lastly, Asness argues that social media and the gamification of trading have led to more casino-like behavior in the markets, which can exacerbate pricing inaccuracies. The implications of these findings are significant for investors. In a market where the investing masses may be making large errors, there is potential for savvy investors to capitalise. However, the challenge lies in maintaining discipline and rationality in the face of chaos. The recent volatility in Nvidia’s stock price, which lost 10% of its value in a single day due to a soft manufacturing data release, underscores the unpredictability of the current market environment.
In contrast to the broader market, Warren Buffett’s Berkshire Hathaway has long been seen as a bastion of stability and value investing. The company’s recent milestone of reaching a market value of $1 trillion is a testament to Buffett’s success. However, Berkshire’s performance has been uneven in recent years, with returns that have lagged behind the S&P 500 and other tech giants like Apple. Buffett himself has acknowledged the challenges posed by Berkshire’s size and the changing nature of what constitutes a “good business.” As the world around Berkshire Hathaway continues to evolve, particularly with the rise of tech-driven companies, the conglomerate’s reluctance to embrace digital transformation and its outdated corporate governance practices may limit its ability to adapt. With nearly $280 billion in cash and no debt, there is growing pressure on Buffett to consider alternative uses of capital, such as paying a dividend, to better serve shareholders in an era where traditional value investing faces new challenges.
Vice Chairman Gigi Chao‘s speech part 2
References: The Economist. https://www.economist.com/finance-and-economics/2024/09/05/has-social-media-broken-the-stockmarket last accessed 9 Sept 2024
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